By Susan Beck, From The Am Law Daily
A plunge in stock prices in China, with its nerve-rattling aftershocks in the U.S., may prompt law firms to further scrutinize their strategy in China.
The Shanghai Composite Index tumbled 8.5 percent on Monday—its greatest one-day decline since 2007. The index has dropped 38 percent since mid-June, and when China unexpectedly devalued its currency earlier this month, the move sparked further concerns about the extent of the country’s economic slowdown.
U.S. and international firms are tracking the turmoil, though few admit to outright jitters.
“I would say we’re following it pretty closely, and at least it’s already started to enter the conversation with clients,” said Sarkis Jebejian, a corporate partner at Kirkland & Ellis based in New York. For now, he said, the unsettled markets could prompt a more cautious approach on the deal-making front.
But if the slowdown continues, Jebejian said, it could require law firms and their clients to “rethink some of their assumptions” about China.
“Putting aside the volatility over the last couple of weeks, I think looking forward, people are going to think about what are the fundamental underlying causes,” he said. “Is the Chinese economy, for some period in the future, on a different growth trajectory?”
A growing number of U.S. firms boast significant China practices, and more than 30 have offices in China staffed by at least 20 lawyers. More than a dozen firms have opened offices in the last decade, including Covington & Burling and Wilson, Sonsini, Goodrich & Rosati. The U.S. firm with the most lawyers in China is Baker & McKenzie, with 254 attorneys, according to National Law Journal data. It’s followed by Mayer Brown (201 lawyers); DLA Piper (158 lawyers); and Hogan Lovells (116).
Even before China’s current market woes, however, the country has proved to be a tough market to crack for many law firms.
In January, when Fried, Frank, Harris, Shriver & Jacobson announced it was closing its Hong Kong and Shanghai offices and pulling out of Asia, consultant Peter Zeughauser warned that others might follow. The vast majority of U.S. firms aren’t making a profit in China, he asserted. Some firms are losing up to $7 million a year in that market, Zeughauser said.
“China has always been a hard market, and with the local firms getting much stronger and starting to capture the lion’s share, it’s not getting any easier,” said Zeughauser, who has advised several native Chinese firms and has made more than 40 trips to the country. “Nobody wants to admit defeat, but Fried Frank might be the canary in the mineshaft.”
Other firms remain committed. “We are long-term players,” said Roger Parker, the managing partner for Europe, Middle East and Asia at Reed Smith, which has more than 100 lawyers in Hong Kong, Shanghai and Beijing.
“For the present it’s business as usual. [The stock market] doesn’t affect our long-term thinking,” Parker said. Reed Smith’s firm’s global energy practice could see some change in demand, he said, but otherwise “it’s a little bit wait and see.”
Thomas Shoesmith, the head of the China practice at Pillsbury Winthrop Shaw Pittman, said that Western law firms have been retrenching in China for about five years, because the legal market has changed dramatically. Deal activity by foreigners investing in China is still strong, but it’s fallen off, he said. “And the Chinese law firms are hundreds of times better at doing that kind of work than they were five years ago,” said Shoesmith. “The Chinese, as a rule, get up a learning curve really, really fast.”
The Pillsbury partner also believes that the economic slowdown in China is unlikely to affect the pace of “outbound” investments, as Chinese target investments outside their country. “These outbound acquisitions have been driven by a desire to place money in markets that are less volatile,” Shoesmith said.” Even if our markets are volatile, our volatility is much less than China’s.”
It’s not only firms with China-based practices that are eyeing the markets there. Emily Parker, managing partner of Dallas-based Thompson & Knight, which has no offices in Asia, said concern about demand in China is probably affecting oil prices, which has a more direct impact on Texas firms. Still, she cautioned that it’s too early to say if the market upset will affect the firm’s business or the volume of capital markets work.
Timothy Powers, managing partner of Dallas-based Haynes and Boone, also said it’s too early for an assessment. “Legal services tend to lag the market cycle by about six months and it may be that we won’t really get a full tell of where we are in the market for the next couple months,” Powers said.
In the wake of Monday’s stock tumble, Zeughauser pointed out that Hong Kong, which has its own stock exchange, still operates as a separate legal market from the mainland. The Hong Kong market, he said, will likely stay stronger than the mainland China market for U.S. firms, in part because it still relies on Western law as a former British colony.
Still, Zeughauser noted, there has been informal talk about the Chinese government moving its financial center to Shanghai in the future. And a slowdown in China could have a significant effect on some emerging markets where China is fueling growth, such as Brazil, Venezuela, and Peru.
Barry Genkin, who chairs Blank Rome’s Asia practice, said the key to having a successful practice in China is having an eye on the long-term. Companies with a longer foothold in China know to expect the unexpected and not to panic whenever it looks like the sky may be falling. “If you really focus on China, you need to focus on it over the long run,” Genkin said. “If you do it on a daily basis, you can go from the zenith to the nadir practically overnight.”
The U.S. securities class action bar, meanwhile, seems to be taking the downturn in stride. For now, institutional investors are more likely calling their brokers than their lawyers, said Joel Bernstein, a partner at Labaton Sucharow in New York. And if plaintiffs firms do start getting calls, it could take weeks, if not months, to investigate the matter sufficiently to file a suit.
IMAGE: Shanghai’s Bund: Not feeling bullish. George Clerk
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